Momentum and Seasonality in Corporate Bonds

  • Author / Creator
    Li, Lifang
  • This thesis explores the market efficiency in the US and Canadian corporate bond markets through examining the profitability and time variations of two widely studied asset pricing anomalies, i.e., the momentum effect and the return seasonality. The momentum effect refers to the abnormal gains from holding portfolios formed by taking long positions on past winners and short positions on past losers, where winners and losers are identified by ranking assets on the basis of their historical performance. The return seasonality, and more specifically the calendar effect, arises when mean returns on certain assets appear to be abnormally high/low in a given calendar period (e.g., in January).Using transaction-based bond-level data from 2002 to 2014, Chapter 1 of this thesis documents that momentum profits for corporate bonds depend on the state of the market (UP/DOWN). Momentum gains exclusively follow UP periods. In contrast, DOWN markets herald momentum losses. Importantly, this study links momentum gains to underpricing, as measured by low stock market sentiment. In particular, the UP-market momentum gains are generated exclusively by momentum portfolios formed in periods of low sentiment. The DOWN-market reversal returns in low sentiment are even larger than the UP-market momentum gains. We also introduce a novel top-volume bond momentumstrategy and show that it yields large and persistent unconditional profits.The second chapter extends the analysis of the momentum effect in corporate bonds to the Canadian market. This chapter contributes to the sparse scholarly literature on the Canadian financial sector and provides an out-of-the-sample validation of the empirical results obtained from the US market. Using bond-level data for a sample ranging from 1987 to 2016, thischapter documents that the momentum effect is significant in the Canadian market for corporate bonds. The strategy yields momentum gains that are comparable to those observed for US corporate bonds. Conditioning on the market state (UP/ DOWN) doubles the returns on the momentum portfolio for holding periods ranging from one month up to two years. Further, momentum gains are exclusive to the UP market state. Importantly, the conditional analysis reveals that the state of the market brings about sizeable momentum returns also for investment grade bonds, especially in the most recent yearsof the sample.The third chapter studies monthly seasonal variations in Canadian corporate bond returns. I find that the seasonal patterns switched around the 2007-09 financial crisis, from a negative March effect to significant gains in January and July. The January and July effects can be attributed to thereinvestment of coupon payments, a majority of which are paid in December and June. The surging demand for bonds in the months following intensive coupon payments (i.e., in January and July) resulted in higher monthly realized returns. The long period of decreasing expected long-term interest rates in the post-crisis period made reinvestments into bonds more appealing, thus making the January and July effects much more pronounced in the post-crisis period. Further, I show that the negative March effect stems from seasonal variations in the US long-run borrowing cost, prior to the financial crisis.

  • Subjects / Keywords
  • Graduation date
    Spring 2019
  • Type of Item
  • Degree
    Doctor of Philosophy
  • DOI
  • License
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